Judge Tells Cleveland Not only “No,” but “Heck No?”

the City’s claims are preempted by Ohio laws that regulate mortgage lending;

the City’s claims are barred by the “economic loss rule”;

the City’s allegations failed to demonstrate an “unreasonable interference with a public right”; and

the Defendants’ alleged conduct was too remote to have caused the alleged harm.

In holding that the City’s claims were preempted by Ohio lending laws, the Court grounded its decision in the very broad terms “indirectly” and “other actions” contained in a regulation that reserves the exclusive right to regulate in-state lending to the state. That regulation prohibits political subdivisions, such as the City of Cleveland, from “directly or indirectly” attempting to regulate lending activities by means of ordinances, resolutions, regulations, or other actions. Looking to the United States Supreme Court for guidance, the Court concluded that “[w]ithout question, common law actions for damages represent an important manner of regulating conduct.” Opinion at page 5. In bringing in the Supreme Court “heavy hitters,” the Court goes out of its way to imply that all public nuisance actions are thinly veiled attempts to regulate that which cannot be achieved through the usual legislative efforts (i.e., regulation by litigation). After concluding that common law actions for damages are forms of regulation and noting that the Ohio Legislature broadly preempted regulating the business of lending, the Court easily concluded that the City’s lawsuit was a prohibited “other action” that “indirectly” sought “to regulate the origination and granting of mortgage loans.” Opinion at *5-*7.

The Court also rejected the theory that securitizing subprime loans constituted a public nuisance because the City had not alleged that the Defendants violated the law. Notably, the decision emphasized that lending activity is not only regulated, but that the federal government actually encouraged the very expansion in subprime lending that the complaint decried as creating a public nuisance. In Ohio, “[w]hat the law sanctions cannot be held to be a public nuisance.” Thus, conduct that is “fully authorized by statute or administrative regulation is not an actionable tort.” Opinion at *18. According to the Court:

Where a regulatory scheme governs the conduct of certain activity, courts assess whether the defendant complied with the regulatory scheme to determine whether a duty was breached, i.e., whether the defendant unreasonably interfered with a public right. Under such circumstances, if the defendant complies with that scheme, he cannot be sued for public nuisance by a plaintiff claiming that, despite compliance with the regulatory system, the activity was nevertheless performed in a negligent manner.

Opinion at *20. Consequently, in Ohio, “a showing that the challenged conduct is subject to regulation and was performed in conformance therewith insulates such conduct from suit as a public nuisance,” even if a plaintiff can show that “such conduct could otherwise be described as negligent.” Opinion at *21.

Finally, the Court held that funding subprime lending did not proximately cause the damages that the lawsuit sought to remedy — harm to the City as a result of increased expenditures and decreased tax revenue as a result of home foreclosures. First, the Court concluded that the City “failed to demonstrate any direct relationship between its alleged injury and Defendants’ conduct.” Then, it noted that “[i]t would be tremendously difficult, if not completely impossible, to determine which of the City’s damages are attributable to Defendants’ alleged misconduct and not to some absent party.” Finally, it noted that there were absent parties that it believed to “stand in closer proximity to Defendants’ conduct;” “namely, the subprime borrowers whose homes were foreclosed and became fire hazards, eyesores, etc.” Opinion at *30-*31. According to the Court, the bankers “stand atop a lengthy chain of events, far removed from the City’s ultimate damages.” It stated that it believes that the proper parties to bring this lawsuit are the individual subprime borrowers who “can generally be counted on to vindicate the law as private attorneys general, without any of the problems attendant upon suits by plaintiffs injured more remotely.” Opinion at *33.

Interestingly, the Court noted that the banks being sued were not the parties that foreclosed on the properties that became the source of the City’s alleged harms. Opinion at *33. This observation could bode well for the City’s other subprime-related public nuisance suit working its way through the judicial system. That suit, discussed here, claims that business practices used by some banks when selling foreclosed properties is creating a public nuisance in violation of the law. It asks the court to abate the nuisance by ordering the banks to either fix up the foreclosed houses before selling them or to demolish them entirely.

Plaintiffs’ counsel reportedly already has filed a notice of appeal to the Court of Appeals for the Sixth Circuit. While this decision is not binding on other state and federal judges, the Court’s thorough denunciation of the City’s novel use of public nuisance as “improper regulation through litigation,” as well as the preemption and proximate cause issues likely will be given careful consideration by courts in other jurisdictions. If nothing else, the strength of this opinion may give pause to municipalities and other entities considering similar claims. The opinion should provide ample ammunition to financial institutions facing “subprime meltdown” litigation with respect to preemption and causation defenses.